Wednesday, October 5, 2022

Waiting for the U.S. Supreme Court Decision on Puerto Rico Recovery Act

By on December 17, 2015

BY LUIS J. VALENTÍN

When the U.S. Supreme Court decided on Dec. 4, 2015, to grant the Puerto Rico government’s petition to review the enforceability of a local bankruptcy law for its financially battered public utilities, many rejoiced and called it a game changer in the commonwealth’s crusade to restructure at least part of its roughly $70 billion debt.

But how much of a game changer would it be? Perhaps most importantly, how quickly would the court’s action arrive for a Puerto Rico government that is “borrowing” from Paul to pay Peter and desperately running low on cash?

Convincing the top court it should review an issue related to the island’s debt crisis could be viewed as a win for the commonwealth government. Only about 100 to 150 cases are taken up for consideration each year, of the more than 7,000 petitions received, according to the court’s website. Moreover, the court reversed 72% of the decisions it reviewed from lower courts during its 2014 term, says the Scotus (Supreme Court of the U.S.) blog—a media outlet solely dedicated to covering the U.S. top court.

For the past three decades, Puerto Rico has had no legal framework to restructure its debts under federal law, namely Chapter 9 of the U.S. Bankruptcy Code. When the commonwealth attempted in 2014 to establish its own municipal bankruptcy mechanism— the Public Corporations Debt Compliance & Recovery Act—it was challenged soon after its enactment. The Recovery Act is a mechanism similar to that of Chapter 9, which would only allow Puerto Rico to restructure debt held by public corporations, or roughly $20 billion.

AND SO IT BEGAN

In the summer of 2014, a group of creditors holding about $2 billion of the Puerto Rico Electric Power Authority’s (Prepa) $9 billion debt sued the commonwealth over its intent to use the Recovery Act for the troubled utility. The federal district court decided in favor of the creditors, ruling that federal bankruptcy law pre-empts the challenged local statute. The Alejandro García Padilla administration quickly appealed the decision.

Although upholding the district court’s ruling, the U.S. Court of Appeals for the First Circuit acknowledged the commonwealth’s law was void under Chapter 9 after a murky technical amendment process back in 1984. However, it stated “Puerto Rico may turn to Congress for recourse,” since “Congress preserved to itself that power to authorize” Chapter 9 relief for the island. And indeed, the commonwealth government has been in a yearlong lobbying blitzkrieg on Capitol Hill to achieve access on Chapter 9—yet to no avail as of press time Monday.

Perhaps fueled by one of the appeal’s court judges who took part in the decision—Puerto Rican Judge Juan Torruella—the García Padilla administration decided to take a crack at the U.S. Supreme Court. While upholding that federal law pre-empts the Recovery Act, Torruella said in a way, Congress discriminated against the island back in 1984 and ran counter to the federal bankruptcy law’s uniformity principle.

Nonetheless, Torruella’s argument could be irrelevant to the matter, legal analyst John Mudd told Caribbean Business, noting that the commonwealth government has technically never brought up Torruella’s view during the judicial process, meaning the court will likely consider the argument waived.

Instead, the García Padilla administration is posing the following question: “Whether Chapter 9 of the federal Bankruptcy Code, which doesn’t apply to Puerto Rico, nonetheless pre-empts a Puerto Rico statute creating a mechanism for the commonwealth’s public utilities to restructure their debts.”

For their part, the creditor groups are asking whether federal law pre-empts the Recovery Act and whether the 1984 amendments “precluding Puerto Rico from using Chapter 9 of the Code allow Puerto Rico to enact its own version of Chapter 9.”

In plain vanilla, still at the forefront is the federal pre-emption subject— whether the local law conflicts with the federal bankruptcy statute.

A SPLIT?

Many observers believe the Scotus hearings could take place by March, with a decision following by early summer. The commonwealth government must submit by mid-January yet another brief, or chance, to make its case to overturn the federal district court’s decision and enable the Recovery Act.

Only eight justices would participate in the proceedings, after Supreme Court Justice Samuel Alito decided to recuse himself for undisclosed reasons. Some reports point to Alito holding Puerto Rico bonds.

In predicting how the court could act, many observers focus on the justices’ perceived conservative, moderate or liberal stances. However, the Recovery Act issue may not fall along those lines. For instance, Mudd believes that since the matter is geared toward federal preemption, a majority decision may bring together justices from different ideologies. A case in point could be a decision released this week on a California arbitration case, whereby the top court went over the preemption doctrine. The recently delivered opinion, a 6-3 tally, had a mixed composition, with both liberal- and conservative-leaning justices on both sides of the decision.

Puerto Rico’s case could resemble such a mixed composition. With Alito’s recusal, there is also the possibility of an evenly split ruling, which would have the effect of upholding the federal court decision.

Although deemed as highly unlikely by many, if Puerto Rico secures access to Chapter 9, or a preliminary restructuring deal with Prepa creditors successfully materializes before the Supreme Court acts, the two Recovery Act cases may be judged moot, or having no future effect, thus providing no reason for the court to act.

While awaiting the court’s action—or any type of relief for that matter—the clock continues to tick on the Puerto Rico government as it maneuvers through a brutal debt-service schedule and cash crunch heading into the summer. The commonwealth has been trying to hold consensual restructuring talks with different creditor groups, but so far has been unable to attain much, besides the preliminary agreement struck with Prepa creditors, which many believe is now hanging by a thread.

What’s more, there is more uncertainty among already jittery creditors, who would rather wait to see how the Supreme Court cases and the commonwealth’s latest efforts to secure access to Chapter 9 play out. A stalemate in restructuring talks would certainly test the government’s ability to keep making debt-service payments, and avoid a default event that may trigger messy litigation.

Moreover, others argue a Supreme Court decision would not only be about the Recovery Act’s enforceability, but also about the commonwealth’s ability to ultimately decide its own affairs under its existing political framework.

Potential Litigation of GO Debt Payments an Uncharted Legal Territory

A possible default scenario on general-obligation (GO) bonds would send Puerto Rico and its creditors down an uncertain path where the court interpretation of the debt’s constitutional guarantees and available investor remedies remain unclear, at best.

A policy paper authored by the Center for a New Economy (CNE) Public Policy Director Sergio Marxuach released last week raises the issue of slightly different wording for Article VI, Section 8 between the Spanish and English versions of the Puerto Rico Constitution. Article VI, Section 8 establishes the first claim by GO debt on commonwealth resources.

Spanish version: “Cuando los recursos disponibles para un año económico no basten para cubrir las asignaciones aprobadas para ese año, se procederá en primer término, al pago de intereses y amortización de la deuda pública, y luego se harán los demás desembolsos de acuerdo con la norma de prioridades que se establezca por ley.”

English version: “In case the available revenues including surplus for any fiscal year are insufficient to meet the appropriations made for that year, interest on the public debt and amortization thereof shall first be paid, and other disbursements shall thereafter be made in accordance with the order of priorities established by law.”

The difference between “available resources” and “available revenues” could turn out to be significant for two reasons, according to Marxuach. First, the term “available resources” has been interpreted to be broader than the term “revenues” in several opinions issued by the Puerto Rico Justice secretary, thus allowing the commonwealth to pay GO debt with nonrecurring funds arising, for example, from issuing additional debt, asset sales or the liquidation of financial investments.

In all likelihood, in a federal court setting the term “available resources” will prevail, said San Juan attorney John Mudd. “There are errors in the [English] translation. The bondholders in the U.S. understand this perfectly well,” he added.

Mudd believes that federal court judges will defer to the Spanish version of the Puerto Rico Constitution. “In an issue as important as this one, you can be sure that the judges will look at this very carefully.”

The Puerto Rico Supreme Court has never interpreted the term “available resources” in Article VI of the P.R. Constitution and there is no discussion of its meaning in the records of the proceedings of the Puerto Rico Constitutional Convention, Marxuach stated.

The interpretation of Article VI is also important for the application of the so-called constitutional claw-back, he noted. Article VI, Section 2 of the Puerto Rico Constitution raises the question of whether tax revenues that have been pledged for the payment of other obligations, including other bonded debt, constitute “available revenues” for the payment of GO bonds and are therefore subject to being clawed back to the general fund for their payment, he said.

The commonwealth has assigned certain tax revenues to the P.R. Highways & Transportation Authority, P.R. Infrastructure Financing Authority, P.R. Convention Center District Authority and P.R. Industrial Development Co. It isn’t entirely clear if those pledged revenue streams are subject to the constitutional claw-back and if creditors of these affected bonds can sue the commonwealth if the payment source is diverted toward the general fund.

To complicate matters further, in the case of GOs, there is the issue of multiple legal jurisdictions, particularly in the last $3.5 billion emission. “You could have a case on GO bonds on four different courts at the same time: the New York Supreme Court, New York Federal Court, Puerto Rico Federal Court and First Instance Court,” Mudd explained.

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